A great opportunity for syndicators and fund sponsors is through self-directed individual retirement accounts. In this video, we’re going to go through what those are, and why it’s a great opportunity. My name is Tilden Moschetti. I’m a syndication attorney with the Moschetti Syndication Law Group, we specialize in Regulation D Rule 506b and 506c offerings.
So what is a self-directed individual retirement account? A self-directed individual retirement account or self-directed IRA is an account much like a traditional IRA. It is held with an institution that holds the money and makes decisions, basically protecting the investor from touching their money during the period when it needs to be in the account to avoid negative tax consequences. So they protect it in that shield; I think everybody really understands that piece of it.
But a self-directed IRA goes one step further. Instead of the administrator making the decisions and acting on trades to buy into a public security or into something that is well known and most of the time still a public security, a self-directed IRA lets the investor make the decision on where exactly that money goes. And that could be into something like a private offering that is being done under Regulation D Rule 506b and Rule 506c, so they can choose to invest in there.
The setup looks like this: you are the sponsor, and your investor is also a beneficiary of the self-directed IRA. Now, the self-directed IRA is run by an administrator and that administrator’s job is to make sure that the rules of the IRS and the states are complied with to ensure that there are no consequences that happen to their beneficiary if the money hits their hands or something improper happens within the IRA rules that will cause a tax consequence.
When that is set up properly, what happens when you put this offering in front of your investor is that the investor goes and opens up a self-directed IRA account with the administrator. It’s helpful to kind of direct them to a bunch of different places. So typically, I will refer to three or four different self-directed IRA companies, let them know that they exist, have them choose, and talk to them and make a decision on if one of these would be a good fit for them.
When they do, they’ve then entered into an agreement where they become that beneficiary of that account, and the administrator takes control. They then direct the administrator to invest in your account. At that point, you provide the private placement memorandum and the operating agreement, not only to the investor but also to the administrator. The administrator reads those documents to make sure that it is set up in such a way that it protects the investor/beneficiary from any of those tax consequences, which would be disastrous.
Assuming that everything is fine, they will then sign the subscription agreement. Typically, it is that administrator that signs the subscription agreement, but a lot of times they will also ask the investor/beneficiary to sign it as well. And that gives the administrator the authority to then send the money and buy the security from you.
So that’s all done. They’ve now invested in your account, and you have the investor listed not as investor name, but you have that investor listed as “self-directed IRA name for the benefit of investor name.” When it comes time to do taxes, you will be issuing the K-1 to the self-directed IRA with a copy to the investor. That way the tax obligation flows to the administrator to make sure it’s dealt with in a way that’s proper and conforms to the rules of having an IRA.
Then when you’re making distributions, you need to make sure along with the administrator that all the money that’s sent goes to the administrator for the benefit of your investor, and never to the investor themselves. If the investor has control of the money, that’s when everything goes kaboom. That’s when there are major consequences, including imputed income, or penalties of possibly even their entire IRA world. We want to make sure that the money doesn’t go into their hands, that it stays within the administration of that self-directed IRA.
So that’s the way that it’s all set up. Now, the reason I say that it’s a great opportunity for syndicators and for fund sponsors is because now not only do you have a lot more capital to work with – all this capital that’s available in these individual retirement accounts – but it’s also a great opportunity to talk to investors about the fact that these even exist, and that they may have an opportunity to invest in your offering, which may, and hopefully will, give much better returns than whatever they would choose in a traditional IRA.
So I hope that helps open your eyes to the self-directed IRA world. It is a powerful tool that is readily available for syndicators to use and to help their investors make good decisions and possibly make more money in a much more tax-sheltered way. So if I can help you as a syndication attorney with your offering, don’t hesitate to give us a call and we can talk through your offering under Regulation D Rule 506b and 506c.